How to Calculate Depreciation for Insurance

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Depreciation is the loss in value of an asset because of usage and/or the passage of time. You can calculate depreciation using a standard schedule (equal amounts every year) or an accelerated schedule (higher amounts in the earlier years). The steps below will illustrate how to calculate a standard depreciation schedule.

Review the standard formula for depreciation: Depreciation = (Cost - Residual value) / Useful life. As an example, assume you own a piece of equipment with an original cost of \$100,000. The owner's manual and the insurance representative say that the equipment has a useful life of five years, but a tornado ruins it in year 3. You want to calculate how much the insurance company will pay out.

Determine the equipment's residual value, or the estimated value of the asset after its useful life. Assume that your piece of equipment can be scrapped for metals at an estimated cost of \$20,000.

Calculate the depreciation for year 1 by plugging in the appropriate numbers. Depreciation = (\$100,000 - \$20,000) / 5, which comes out to \$16,000. Your piece of equipment depreciates by \$16,000 every year.

Calculate three years of depreciation. 3 x \$16,000 is \$48,000. So after three years, your equipment has dropped in value by \$48,000. \$100,000 (original cost) - \$48,000 (three years of depreciation) = \$52,000. This is the value of your equipment in year 3, accounting for depreciation, which is what the insurance company will pay you for the loss.